Edited version of private advice

Authorisation Number: 1052110408869

Date of advice: 20 April 2023

Ruling

Subject: Active asset test

Question

Is the active asset test in section 152-35 of the Income Tax Assessment Act 1997 satisfied for property A and B ('the properties')?

Answer

Yes

This ruling applies for the following period:

1 July 20XX to 30 June 20XX

The scheme commences on:

1 June 19XX

Relevant facts and circumstances

The Trust was established and executed by a deed.

The Trust was established to carry on the family business which commenced around June 19XX.

The business has ceased.

The Trust provided quality services for commercial, residential, and industrial environments.

In 19XX, the Trust purchased property A. In or around 20XX, the Trust purchased property B.

At the time the Trust acquired both properties, there were residential houses on each property.

Both residences were rented out at all times during the Trust's ownership, except for when repairs were required to the residences.

The rental properties were leased to tenants who were unrelated third parties to the taxpayer. The rental properties were managed by a real estate agency.

At all times from the acquisition of the properties until the business ceased, both properties were used in the carrying on of the business.

After the business ceased, the two residential buildings continued to be used as rental properties.

The area of the property previously used for the business was not available to the tenants and remained vacant.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 152-10

Income Tax Assessment Act 1997 section 152-35

Income Tax Assessment Act 1997 section 152-40

Reasons for decision

Question 1

Summary

Property A and B are active assets as they were used by the Trust in the course of carrying on its business for more than 7 and a half years of the Trust's more than 15-year ownership period.

Basic conditions

For the small business concessions in Division 152 of the Income Tax Assessment Act 1997 (ITAA 1997) to apply to reduce or disregard a capital gain, the relevant capital gains tax (CGT) asset must satisfy the active asset test in section 152-35.

Active asset test

Subsection 152-35(1) of the ITAA 1997 states that a CGT asset satisfies the active asset test if:

(a)          you have owned the asset for 15 years or less and the asset was an active asset of yours for a total of at least half of the period of ownership, or

(b)          you have owned the asset for more than 15 years and the asset was an active asset of yours for a total of at least 7 and a half years.

Subsection 152-35(2) of the ITAA 1997 provides that the test period begins when you acquired the asset and ends at the earlier of:

            (i)                the time of the CGT event; and

           (ii)                when the business ceased, if the business in question ceased in the 12 months before the CGT event (or such longer time as the Commissioner allows).

Meaning of active asset

Subsection 152-40(1) of the ITAA 1997 defines an active asset as follows:

A CGT asset is an active asset at a time if, at that time:

(a)          you own the asset (whether the asset is tangible or intangible) and it is used, or held ready for use, in the course of carrying on a business that is carried on (whether alone or in partnership) by:

                            (i)                you; or

                          (ii)                your affiliate; or

                         (iii)                another entity that is connected with you; or

(b)          if the asset is an intangible asset - you own it and it is inherently connected with a business that is carried on (whether alone or in partnership) by you, your affiliate, or another entity that is connected with you.

Subsection152-40(4) of the ITAA 1997 provides when a CGT asset cannot be an active asset. Paragraph 152-40(4)(e) provides that an asset whose main use is to derive rent is specifically excluded from being an active asset.

There is no requirement that the asset needs to be an active asset just before the CGT event.

Taxation Determination TD 2006/78 (TD 2006/78) Income tax: capital gains: are there any circumstances in which the premises used in a business of providing accommodation for reward may satisfy the active asset test in section 152-35 of the Income Tax Assessment Act 1997 notwithstanding the exclusion in paragraph 152-40(4)(e) of the Income Tax Assessment Act 1997 for assets whose main use is to derive rent? provides guidance on whether an asset's main use is to derive rent.

Paragraph 26 of TD 2006/78 states:

If an asset is used partly for business and partly to derive rent at any given time, it will be a question of fact dependent on all the circumstances as to whether the main use of the asset at that time is to derive rent. No one single factor will necessarily be determinative, and resolving the matter is likely to involve a consideration of a range of factors such as:

•                     the comparative areas of use of the premises (between deriving rent and other uses); and

•                     the comparative levels of income derived from the different uses of the asset.

It is acknowledged that the definition of an active asset does not require exclusive use of the asset for business purposes, only that the asset is required to be used "in the course of carrying on a business". This phrase was discussed in Eichmann v FC of T 2020 ATC 20-762; [2020] FCAFC 155 (Eichmann's case), where it was established that "in" the course of carrying on a business means the asset has direct functional relevance to the carrying on of the normal day-to-day activities of the business, directed to the gaining or production of assessable income.

Application to your circumstances

As the Trust has owned property A and B for more than 15 years, the properties need to be an active asset of the Trust for at least 7 and a half years. The Trust has used a significant portion of the properties as part of the Trust carrying on their business for a relevant period of more than 7 and half years.

Furthermore, for a period of more than 7 and a half years, the majority of the land area of property A and B have been for business use and the majority of the income derived from the properties has been from the business. It can be concluded that during this relevant period, the properties' main use has not been to derive rent and the rental exclusion does not apply.

As the properties have been used by the Trust in the course of carrying on its business for a period of significantly more than 7 and a half years and the rental exclusion doesn't apply, property A and B satisfy the active asset test.

With reference to Eichmann's case, we consider the Trust's use of the properties on a daily basis for the storage of business equipment are part of the course of carrying on its business.

Having regard to the nature of the properties, the nature of the Trust's business, and the relationship between the properties and business, we are satisfied that for the required period of at least 7 and a half years, the trust used the properties in the course of carrying on its business. The properties satisfy the active asset test under section 152-35 of the ITAA 1997.

In addition, the Trust therefore satisfies paragraph (d) of subsection 152-10(1) of the ITAA 1997. However, this does not confirm whether that the Trust satisfies the remaining eligibility requirements of the small business CGT concessions under subsection 152-10(1).